401k retirement plans began almost by accident in 1978. Yet today for many of us 401k plans play an important part of our retirement plans. According to the Investment Company Institute as of March 2019 there were $5.7 trillion invested in
A 401k retirement plan like every investment requires proper planning and management. That includes
understanding 401k word definitions, determining investments and selection of plan beneficiaries.
Who you choose to be a beneficiary is often an afterthought. We don’t plan on dying any time soon so who we select as a beneficiary is probably just academic. But there are a number of good reasons to choose carefully. Let’s examine some common questions about the subject.
- Can't I just let my will say who gets the money?
You can. If no beneficiary is specified the assets will be placed into your estate and distributed per your will's instructions. In some cases this is your best solution. You only need to change one document (your will) to make changes. No need to get plan administrators involved. There are, however, some drawbacks. Often lawyer's fees are based on the value of the assets distributed by the will. Letting your will dictate where the 401k assets go could add to the lawyer's fee. In some cases the value of the 401k assets will be considered probate assets. That means that they won't be distributed until the probate process is completed. It also may eliminate some privacy. Other beneficiaries will not know who received the assets from your 401k if those assets are distributed directly to the named beneficiaries.
- Do I have to choose my spouse?
If you are married, the law (ERISA – the act that governs 401k plans) says that your spouse is automatically considered to be your beneficiary. You may choose other beneficiaries, but ERISA states that you must notify a spouse if they would receive less than 50% of the account in case of your death and a spousal waiver must be signed by your spouse.
- What if I'm separated from my spouse?
Even if you've been separated for years your legal spouse is considered your beneficiary unless someone else is listed on your account and the proper spousal waiver has been signed.
- What if I remarry?
Your current spouse would be considered as your beneficiary. If you would prefer to have your children from a prior marriage inherit the assets you'll need to list them as beneficiaries and have the spousal waiver signed.
- Can I give it to my kids or grand kids?
Yes, you can. It's up to you. And you aren't required to have a specific reason for choosing them. In some cases your spouse is set financially and it only makes sense to pass the 401k assets to the next generation. If your children are doing well financially you might even want to skip a generation and make your grandkids the beneficiary.
- What if my kids or grand kids are minors?
You may list minors as beneficiaries, but you'll want to make sure you do it properly. Since a contract with a minor is usually not enforceable most plans will not transfer assets directly to a minor. A guardian or trust would need to receive the assets and manage them until the child reaches maturity. If you do not create a trust or list a guardian the court will appoint one. Remember, too, that when someone reaches adulthood they might not be very financially mature. It's easy for an 18 or 21 year old to blow through a significant inheritance in ways that would displease you.
- Can I choose more than one beneficiary?
Yes, you can. You can also divide the account unequally between beneficiaries. For example 60% to one beneficiary and 40% to another.
- What happens if I don't choose anyone and leave the beneficiary line blank?
If you die without listing a beneficiary it is assumed that your spouse is the beneficiary. If you are not married the assets of your 401k will be distributed by the terms of your will.
- What happens if I change my mind?
You may change beneficiaries by filling out the proper forms with the plan administrator.
- Are there disadvantages to choosing a beneficiary?
There can be. One problem occurs when the beneficiary dies before you do and you don't update the beneficiary. If no 'secondary or contingent beneficiary' has been selected the assets will be distributed per your will.
- Are distributions to a beneficiary taxable?
Yes, distributions are subject to income taxes. There may also be an estate tax depending on the size of the total estate. There are strategies that you can use to delay or spread out the tax burden, especially if you're the spouse of the deceased.
- What happens when I begin to take distributions from my 401k?
Distributions or loans from your 401k do not change your named beneficiaries, only the amount they would receive if you die. That may be important if you're attempting to balance inheritances to a number of people.
- How often do I need to review my beneficiaries?
Many people have a 'set it and forget it' policy towards their 401k. You should review your beneficiaries at least as often as you or one of the beneficiaries has a major life event (birth, death, marriage, divorce, etc). It's a good idea to get in the habit or reviewing it once each year.
Clearly, choosing your beneficiaries for your 401k account is an important decision. One that can have a major financial impact on people's lives.
Author Bio: Gary Foreman is a former financial planner and the editor of TheDollarStretcher.com and
After50Finances.com. His After50Finances email newsletter shares ways to make the money you worked hard for work harder for you!
Rick Pendykoski is the owner of Self Directed Retirement Plans LLC, a retirement planning company based in Goodyear, AZ. He has over three decades of experience working with investments and retirement planning, and over the last ten years has turned his focus to self-directed ira accounts and alternative investments. If you need help and guidance with traditional or alternative investments, call him today (866) 639-0066.